Cathie Wood Is Selling Roku Stock. Should You?

Cathie Wood has developed a reputation for identifying high-growth, disruptive tech stocks. She invests through her company, Ark Invest, and its various exchange-traded funds (ETFs) that anyone can buy.

Roku (NASDAQ: ROKU) has been one of her favorite stocks for a long time, but she's been selling off shares lately. Is she giving up on the streaming stock? Let's see what's happening, and whether you should follow her lead.

The leader in ad-supported streaming

Roku is the industry leader in ad-supported streaming. It's the top platform in the U.S., Canada, and Mexico, and it's making a bigger push into international waters.

It has a two-sided business between its hardware (the devices it sells) and its advertising business. These segments were see-sawing a bit over the past few years, but they're both in growth mode these days. Total revenue increased 14% year over year in the second quarter, with healthy growth in both businesses.

The ad business is much bigger, accounting for more than 80% of the total. The company's model is to sell the devices as a means to draw customers into its ecosystem, and then be able to capture a larger share of the ad market as it has more eyeballs to view ads. The ad business is the asset-light business, so while device sales have been demonstrating a gross loss, total gross profit and margin are increasing. Gross profit increased from $378 million last year to $425 million this year in Q2, with gross margin up 0.2 percentage points.

Profitability has been an issue for Roku. It reported surprise profits when sales accelerated early in the pandemic, but in some ways, that ended up becoming a setback. It had to build out faster than expected to meet demand, and then slash expenses as demand waned. It's still getting past that.

The situation has been improving. Adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) have been positive for four straight quarters and improved from an $18 million loss last year to positive $44 million this year in the second quarter. Free cash flow, also positive for the fourth straight quarter, switched from negative $170 million to positive $318 million.

Roku has many markers of a strong, viable business with incredible potential. It continues to onboard new accounts and increase viewing hours, and that's what's going to get it more ad dollars. Accounts increased 14% in Q2 year over year, with viewing hours up 20%. Advertisers are also back in spending mode, and that should accelerate with lower interest rates.

Will the stock ever get some love?

This kind of high-octane growth company is just up Cathie Wood's alley. It has a distinctive, tech-oriented business that's shaking up a traditional business. It's the top player even when measured against sector titans like Amazon, and it has a huge market opportunity.

It's no surprise that Roku is a huge part of Ark Invest's makeup. It's actually the second-largest position in the company's flagship Ark Innovation ETF (NYSEMKT: ARKK) behind Tesla, accounting for 10.6% of its holdings, and it has the third spot in Ark Invest's Next Generation Internet ETF (NYSEMKT: ARKW).

Why is Cathie Wood selling? First of all, Roku remains a large portion of her holdings, so she hasn't completely lost confidence in it. But there are a few reasons she might be selling right now. Although Roku has plummeted this year, down 20% year to date, it's rallied over the past few weeks and is up 33% since it released second-quarter earnings in August. Now could be a good time for Roku shareholders to pocket some of their short-term gains -- if they need the money for something else.

That could be another reason Wood might be selling. Although she hasn't given up on the stock, she might have identified new, more disruptive stocks or stocks she likes at prices too good to pass up. Taking some gains from one stock's recent rise to buy other stocks is a common strategy for fund managers.

What should individual investors do? If you're in it for the long run, Roku looks like it has a long and strong future ahead of it. It's still trading at attractive levels, and now could be an excellent time to buy the stock.

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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Jennifer Saibil has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Amazon, Roku, and Tesla. The Motley Fool has a disclosure policy.